One boom ends. Another never dies.

Looks like the residential construction boom has fizzled out… just like I said it would. A shortage of land has driven land prices through the roof, making it almost impossible to bring affordable housing supply to market, pushing prices higher and higher.

A few months ago I made the call that I didn’t think the run up we’d seen in residential construction was going to last. And that meant that I didn’t see it taking the edge off rising prices any time soon.

As I noted, land sales were falling:

Land sales are 5% lower than a year ago. So you’ve got builders keen to build and make the most of the property boom. That’s pushing up land prices to new records. BUT, land sales are actually falling.

Land sales peaked about a year ago, and that’s reflected in the current boom in construction. But land sales are falling. So if there’s less land coming to the market, where will builders build?

As much as they might want to, they’re going to struggle to find suitable land to build on. There’s already a rush on land, and that’s what’s driving prices to new records.

And that means these record construction rates can’t last. They’re going to have to come back down. And that’s going to push the market dynamic back towards a shortage and rapidly rising prices.

And the boom keeps rolling on.

I know this will come as a surprise to my regular readers, but turns out I was right. The construction boom has indeed come to an end, only much sooner than I expected.

The HIA’s latest New Home Sales report says that it appears that there is a clear downward trend emerging, and it looks like monthly new home sales peaked back in April.

Over the three months to July, new home sales were down 3.5%, they reckon.

Looks like it’s clearly peaked.

Which of course is what we’d expect if land sales have been drying up. Land sales peaked a year ago, and given it takes about 8 months to build a house, more or less, then a peak in April is about what you’d expect.

But lets think about the economics of this for a second. Prices are booming. Prices are still booming. Price growth has gone double digit across the country. More in NSW and Victoria.

In a normal market, booming prices are a signal to suppliers (builders) to supply more – bring more housing to market in this case.

More supply comes online, shortages ease, prices stabilise, and the market finds a new equilibrium (in the online fantasy world of economics).

But that isn’t happening.

So the question is why not? Maybe builders aren’t aware that prices are booming and the signal isn’t getting through?

Hardly. You’d have to have been living under a rock for the past few years to have missed what’s going on in the housing market right now. It’s still front-page, tea-room conversation news.

I think when you break it down, there’s two things going on. First, there just isn’t enough land coming on to the market. That means builders are finding it hard to find suitable land, as much as they might want to.

The second thing that happens, is that the shortage of land jacks the price of land up to crazy levels. And that’s exactly what we’ve seen.

In their most recent Residential Land Report, the Housing Industry Association (HIA) reported that vacant lot prices had jumped to a record $205,248 on average in the March quarter:

But expensive land creates a bunch of problems.

Think about where new land release usually happens – in normally happens in the fringes of the capitals. But each year the fringes are pushed further and further out – something like a 2-3 hour commute to the CBD.

But that means that cheaper housing costs are going to be partly offset by rising transport costs.

So for fringe housing to be attractive, it needs to be substantially cheaper – both than existing housing as well as units.

But if land costs mean that you’ve already racked the price up 200K before you’ve hammered in a single nail, then it is hard to builders to deliver new housing at a price that’s competitive.

Potential buyers – put off by the price and the long commute – will prefer to keep renting, or might buy into a unit instead.
And that means new supply just doesn’t make it to market.

We might hope that investors will see the opportunity and invest in new supply, but investors are typically as motivated by capital growth as by rental yield.

New properties in fringe areas have unproven track records for capital growth. What’s more, since marketing fees and what not are also factored into the initial asking price, you’re booking a capital loss as soon as you crack the door.

So much needed supply never makes it to market, Australia remains stuck with a housing shortage, and prices keep rising.

Eventually, the housing and rental shortage will become so acute that it will force supply somewhere – either in fringe suburbs or inner-city units. But it doesn’t look like we’re there yet.

In this sense, it’s clear what needs to be done to create more affordable housing. Either increase the supply of developable land – the closer the better – or make the fringe suburbs more attractive by improving transport access, or creating employment hubs outside of the CBD.

But last time I looked, neither of those things were policy priorities.

And that means that rising prices are just part of the furniture.

What do you think? How’s this housing shortage going to end?

Has anyone invested in fringe estates? Did the numbers work for you?

Anyone know any builders? How are they going finding land to build on?

Comments

I absolutely agree with you Jon. Having now amassed a very large portfolio of property over the past 18 years, the biggest issue I see for development in the fringes is two-fold, that is a lack of infrastructure such as transport options (already over crowded motorways and slow public transport options) and a lack of employment options. In order to do this and make it work, the government needs to come up with an incentive in the form of tax reductions for employers that move to these areas and employ more than say 15 employees. Otherwise, you just won’t have any incentive for employers to move into an area that will likely take a decade or more to become populated enough to exist….

right. so it’s a chicken and egg kinda thing. there’s no people cos there’s no jobs, but there’s no jobs cos there’s no people. seems like getting economic activity out of the CBDs of our capitals, out to the fringes and into rural centres aswell is one of the great challenges of our time…

Hey Jon, I’m a Building Broker in Newcastle and things are definitely looking up. You forgot to mention the Federal Budget in your graph. Everyone sat on their hands for a few months but they are up and moving again. The industry associations are predicting a building boom thru to 2018. Govt will never give up on the taxes/fees they receive at the 3 levels of Govt so we just have to keep cutting the blocks smaller which the NSW Govt is actively encouraging (more density = more stamp duty) with very recent legislation changes. So time to stop whinging and start chopping (down to 125m2 for a block in Western Sydney).

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